3.6 - Government intervention Content Flashcards
3.6 - Government intervention
What are the aims of competition policy in the UK
To
- Promote competition
- Make markets work better
- Contribute towards improved efficiency in individual market
3.6 - Government intervention
What does competition policy aim to ensure
- Technological innovation – which promotes dynamic efficiency
- Effective price competition between suppliers
- Safeguard and promote the interest of consumers through greater choice and lower prices
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What are the main 3 pillars of UK competition policy
- Anti-trust & cartels:
- Eliminating agreements that restrict and impede competition including price-fixing by firms with a dominant market position
- Market liberalisation
- Introducing competition in previously monopolistic sectors such as energy supply, retail banking, postal services, mobile telecoms and air transport
- Merger control
- Investigation of mergers and take-overs which could result in firms dominating the market
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What are the 4 methods of intervention that the government has to control mergers
- The CMA has the authority to examine mergers if the merged entity has a turnover of £70m or more of controls 25% of its market
- They can block an acquisition if they find that the integration of two businesses will lead to a “significant lessening of competition” in one or more markets at local, regional or national level
- The aim of the CMA is to ensure that mergers do not lead to the worse outcome for consumers, such as through higher prices, lower quality or reduced choice
- They have the power to give a merger the go-ahead providing certain conditions are met. Such as requiring the acquiring company to sell part of its operation off to reduce market power
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What is an example of CMA competition policy
March 2024: CMA thought there was price fixing and concentration in the 6 largest vet firms (16 million pet owners) There was weak competition leading to high bills, consumers spent around £5.5 billion in 2021
3.6 - Government intervention
Example of UK merger policy
Carlsberg Britvic – 17th January 2025 – largest multi-beverage supplier in the UK, Pepsi 7UP, 1664, Hobgoblin
Why might government intervention to resolve monopsony power be ineffective
- ‘Self employed’ do not recieve any of the legal protections mentioned
- Tactic used by ‘gig economy’ firms like Uber and Deliveroo to avoid paying workers fairly.
- Minimum wages are different for different ages - £10.42 only applies to those aged 23 and above.(£10.42) 16-18 year olds earn £5.28.
- Governments may lack the information that rules are being broken (employees may not report due to fear of retaliation.
- Regulatory capture - government is excessively sympathetic to business and free market.
- Threat of firms shutting down - Uber suspends service in Tanzania over price regulations
- Synoptic links - Creates unemployment, wage price spiral
How could the government prevenet monopsonist employers from exploiting their workers?
- Minimum wage £10.42
- Maximum working hours (48 hour work week)
- Health and safety legislation, paid holiday/breaks. sick pay, pension.
- Right to be in a trade union - industrial action to argue for better wages/working conditions to balance out monopsony power.
- Government owned (nationalised) organisations should be able to protect workers with fair pay, safety standards and job security.
- Groceries code adjudicator can fine 1% of revenue
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What is the different methods of government intervention to control monopolies
- Tax on monopoly profits
- Liberalization of markets
- Introduce price capping policies
- Nationalisation
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Why would a tax on monopoly profits be used and what is the evaluation
A one-off windfall on supernormal profits for firm with significant market power
Evaluation:
Risk of tax avoidance/loss of capital investment spending (government failure)
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Why would Liberalization of markets be used and what is the evaluation
Break up monopolies - allow smaller businesses to enter and increased contestability
Evaluation:
Smaller businesses may struggle to scale up and compete. Some fims want to stay small so they won’t scale up and compete
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Why would introducing price capping policies be used and what is the evaluation
Encourages cost efficiency + increases consumer surplus
Evaluation:
Monopolists may find revenues in other ways
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Why would Nationalisation be used and what is the evaluation
Take some monopoly utlities back into public ownership
Evaluation:
Possible loss of productive efficiency - too big and unwieldy
Loss of dynamic efficiency
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What is an industry regulator
Regulators are the rule enforcers
Surrogate for competition
Appointed by the government
Examples:
- OFWAT – Water monopolies
- CMA – competition and markets
- Ofcom – Telecoms and broadcasting
- FCA – Financial services
- Ofgem – General energy markets
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How do performance targets work?
- The regulatory body will set performance targets relating to customer service, quality etc.
- Ofcom gives Royal Mail a target of delivering 93% of first class post the next day.
- Were fined £1.5 million for missing it in 2018
- The office for road and rail gives Network Rail a target for 90% of trains in the UK to be on time
- £2m fine for delayed upgrades to London Bridge Station
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What are the problems with performance targets
- Most natural monopolies (rail, water, energy, post) are privately owned in the UK
- The government could nationalise them (buy them from their private owners and run them not for profit)
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How can the government intervene to protect suppliers?
- Can be used as evaluation of effects on suppliers.
- Groceries code adjudicator enforces a code of practice
- Paying on time, sticking to price/quantity agreements, not requiring suppliers to cut prices to fund supermarket promotions.
- Fines of 1% of revenue for breaking the code.
- Encourage suppliers to form co-operatives as a counter balance.
- Better able to negotiate with TNCs like nestle. Might be combined with the Fair Trade movement
- Encourage producers to use technology to sell to consumers directly.
- Minimum prices - e.g. Government can cap prices at AC=AR
- Subsidies
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What is a chain of reasoning for capping the price of a monopoly
- To be effective, the capped price must be set by the regulator below the normal profit maximising price
- A price cap lowers the monopoly (supernormal) profit made by dominants firms in the market
- May stimulate attempts to improve cost efficiency
- In theory – it leads to an improvement in allocative efficiency and consumer welfare
- May lead to the exit of some businesses from the industry which might actually reduce competition
3.6 - Government intervention
What is a price cap
A maximum price for the good/service
Sets price at allocatively efficient point (P2) instead of profit max (P1) - increse consumer surplus
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Arguments for Price capping
- Capping is an appropriate way to curtail the monopoly power of natural monopolies or dominant firms preventing them from making excessive profits at the expense of customers
- Cuts in the real price levels are good for household and industrial customers (leading to an increase in consumer surplus and higher real living standards in the long run)
- Price capping helps to stimulate improvements in productive efficiency because lower costs are needed to increase a producer’s profits
- The price capping system can be a tool for controlling consumer price inflation
3.6 - Government intervention
Arguments against price capping
- Price caps have led to large numbers of job losses especially in the utility industries
- Setting different price capping regimes for each industry distorts the working of the price mechanism
- The industry regulator may not enough accurate information when setting the price caps for future years (asymmetric information)
- Capping prices means lower profits which in turn can lead to reduced capital investment by the utility businesses - consumers suffer if the is underinvesting in utility infrastructure such as water and energy
- Poorly enforced price capping can lead to government/regulatory failure
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What is a method of introduceing competition into a natural monopoply
Core network and final mile service
Core network service
- Core service such as a rail network or distribution grids left in the hands of one monopoly business
The “final mile” service to the consumer
- Possible to introduce competition in other aspects of the industry
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What are some potential advantages of de-regulation of markets
- Where deregulation and market liberalisation break down barriers to entry, market supply should expand, bringing down prices for consumers.
- Increased competition and heightened contestability are strongly associated with improved productive efficiency, allocative efficiency, and dynamic efficiency
- Competition limits firms’ ability to restrict output and raise prices. By forcing firms to charge a price closer to marginal cost, allocative efficiency is improved.
- If firms have less pricing-power, they are more likely to seek profitability through cost reduction, boosting productive efficiency and reducing x-inefficiency.
- Greater capital investment and productivity could lead to improved dynamic efficiency.
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What is privatisation
Privatisation is the sale of government equity/assets in nationalised industries or other firms to private investors. The aim is to revitalise inefficient industries but can sometimes lead to higher prices and poor services.
3.6 - Government intervention
What is the advantages of Privatisation
- Profit motive and competitive pressure prevents x-inefficiency, ensures low prices and high quality.
- Cost savings can be passed to consumers or used for investment (dynamic efficiency)
- Consumer has choice between providers -> quality and price (increased allocative efficiency)
- Government no longer has to cover firm losses.
- Government gains revenue from sale of assets
- If a state monopoly is replaced by a few firms this will lead to lower prices. The competitiveness of the macro economy may improve
- Privatisation can create a shareholder democracy via greater share ownership
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What are the disadvantages of privatisation
- Firms profit maximise - prices rise - When there are natural monopolies, it may be fairer for the government to own the firm since they won’t abuse their position (do not maximise profits)
- Dividends paid out to shareholders, that could be reinvested.
- Cost cutting leads to reductions in service quality. (32% of UK trains are late Q4 2022)
- Potters Bar Rail Crash 2002
- Externalities - Firms focus on profitable areas of the market and leavel others
- Closure of unprofitable bus routes since deregulation.
- Bad for government revenue - firms are underpriced when they are sold. Government no longer recieves firm profits.
- Train privatisation has led to an increase in passanger numbers, but single tickets have risen by 200% (London to Manchester, RPI is 60%)
- Creaming the market - Only operate profitable services.
- Social objectives are given less importance when a business operates for private profit
- Some activities are best run by the state because they are strategic parts of the economy such as water supply, steel and railways
- Shares are often bought/held by large institutions such as pension funds, insurance funds and others
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What is competitive tendering/contracting out and what are the benefits
- Government work is ‘put out to tender’
- Means private firms submit bids of how much money they would charge to deliver a project.
- Building schools/hospital/building HS2.
- Best price should win - firms compete with eachother to win the contract.
- Lower cost than government doing the work - profit motive so less x inefficiency.
- Higher quality - private expertise
- Opening public services up to competition can save the taxpayer money and reduce a country’s fiscal deficits
- Private sector business may be more likely to achieve productive efficiency improvements and cost savings – leading to improved value for money
- Businesses in the private sector might be more innovative, less hierarchal and less prone to suffering from DOS
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Arguments against contracting out
- Businesses bidding to win contracts might sacrifice quality of service as a way of lowering costs - leads to low quality, inadequate health and safety compliance
- Doubts about some employment practices of service companies including low wages & poor conditions
- Contracting out/outsourcing require proper monitoring which costs more
- Bid rigging - firms collude so they don’t undercut eachother when bidding.
- Financial problems, bankrupcy may mean supplier won’t deliver
- Carillion went bankrupt after an £100m contract was awarded to build a new hospital in the midlands.
- Bid low charge high - Crossrail was £6bn over budget. meant to cost 14bn. Cost over 20bn
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What are the advantages of nationalisation?
- Provides long term investment, when private companies are only interested in short run profits.
- Nationalised industry can be run at sales max or excess revenue can be reinvested into the improving the service
- The government will consider externalities.
- The government can guarantee a minimum level of service for people who risk being cut off from a srevice.
- May be dangerous for strategic industries to enter private hands.
- Application - Clement Atlee ‘nationalising the commanding heights of the economy’. - golden age of economic growth.
- Nationalized firms can target social objectives
- Firms might charge lower prices – not focused on pure profit maximisation/extracting consumer surplus
- Natural monopolies in the state sector can achieve economies of scale – gains in productive efficiency
- Can be used to hit macroeconomic aims such as keeping inflation under control
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What are the disadvantages of nationalisation
- No shareholder pressure might lead to diseconomies of scale –> higher prices
- Lack of competition can lead to X-inefficiency
- Firms may lack an incentive to innovate – leading to loss of dynamic efficiency
- Losses of state-owned firms are absorbed by the tax payers
- Nationalised industries suffer from the principal-agent problem - the taxpayer cannot run industries, delegated to managers who do not directly benefit from efficiency savings and improvements.
- Inefficiency and waste due to soft budget constraints - managers know that any loss they make will be covered by the government.
- X-inefficiency - could cause higher prices for consumers - especially since the industry will become a monopoly.
- Application
- Stagflation in the 1970s, likely due to high levels of nationalisation. X-inefficency.
- NHS is a nationalised industry - suffers from lack of competition, uncertaintly about funding because NHS spending change with every government.
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How does nationalisation work?
- Most natural monopolies (rail, water, energy, post) are privately owned in the UK
- The government could nationalise them (buy them from their private owners and run them not for profit)
3.6 - Government intervention
What are the advantages of nationalisation of natural monopolies?
- Exploit Economies of Scale
- Run at allocatively efficient point - lower prices and increased consumer surplus
- Better service
- More investment - not run for profit so extra revenue can be reinvested into the firm.
- More tax revenue - government will have an income steam.
- Democratic - electorate can scrutinise government perfomace
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What are the disadvantages of nationalising natural monopolies
- X- inefficiency - no competition or profit motives. Encourages profligacy and wasteful spending. Costs rise
- Principal agent problem
- Opportunity cost of using taxpayer’ money - expensive to buy firms
- Government run firms in the UK have made heavy losses and require taxpayer subsidies
3.6 - Government intervention
Arguments for rail nationalisation
- Rail network is a natural monopoly suited to state control to achieve economies of scale
- Rail fares can be controlled to improve affordability for rail passengers
- Profits flow direct to the taxpayer rather than to shareholders of private train companies
- State can direct investment into the network and borrow more cheaply to fund it
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Arguments against rail nationalisation
- Competition on lines is more important than who owns the railways – therefore, allow more operators
- Private sector firms are more likely to improve dynamic efficiency and avoid X-inefficiencies
- Possible to regulate more fares on services run by private train operating companies
- History of state-run railways in the UK (especially in the 1970s and 1980s) was not always positive
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What are some broader issues in the debate over state v private in the rail industry
- A successful UK rail industry is needed to sustain and improve competitiveness / support tourism
- UK rail network is expensive to run – in part a legacy from the Victorian age. Huge investment needs – unlikely that the private sector can provide sufficient funds
- Market failure issues are important such as positive externalities from encouraging an increase in mass transport/reducing traffic congestion, affordable rail, and geographical mobility of labour
- Much of the UK rail industry is already under state control / or direct regulation of nearly half of fares, the Government sets terms of rail franchises awarded
- Affordability of rail travel is a major issue although dynamic pricing cuts fares for many segments of the market (such as student rail cards and family travel cards)
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How is productive effiency, allocative eccifiency and dyanmic efficiency applied to the nationalisation of rail
Productive efficiency
- Operating costs measured by cost per passenger kilometre travelled
- Operating costs at peak and off-peak times
- Capacity utilisation of the system – using up marginal spare capacity
- Ability to benefit from economies of scale / avoiding diseconomies of scale
Allocative efficiency
- Ticket pricing – do prices reflect the marginal costs of providing a service?
- Effects of price discrimination on consumer welfare
- Peak and off-peak pricing
Dynamic efficiency
- Improvements to customer service – Wi-Fi, ticketing systems, apps, refunds
- Reliability and safety of trains, frequency of service, customer service/information
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How can the government encourage small business growth?
- No corporation tax
- Providing government grants up to £25k
- Business rate (property tax) reduction
- Removal of barriers to entry - e.g. licences.
- Split up a monopolist -
- Reduce their market power and economies of scale.
- E.g. JD Sports and Footasylum in 2021 were forced to split up.
- Prevent mergers and firms getting so large in the first place
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What is labour doing for small businesses
- Labour is reforming business rates – so that 250,000 (out of 5.5m) small businesses get up to 40% off their rates
- Tackling retail crime – funding for prevention and police training (£1.8 billion lost through shoplifting)
- Labour confirmed £1 billion for British Business Bank to enhance access to finance for smaller businesses through Start Up Loans, the ENABLE build, the Growth Guarantee Scheme and the Life Sciences Investment Programme
- Introducing Business Growth Service
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SME stats
- There 5.5m SMEs
- Employ 60% of total workers in UK
- Turnover of 52% of total = £2.2 trillion
3.6.2 - Impact of government intervention
How do government policies influence prices?
Governments cap prices to stop monopolies from overcharging, making essential services (like water, gas, and electricity) more affordable—especially for low- and fixed-income households. They also push firms to become more efficient. However, high corporation taxes may force companies to pass extra costs to consumers.
3.6.2 - Impact of government intervention
What impact do government measures like price caps and tax policies have on firm profits?
Strict price caps limit a firm’s profit margins and can restrict investment. On the other hand, lowering corporation taxes (e.g., a drop from 21% to 20% in the UK) helps firms keep more profit, though a 1% reduction may have only a modest effect overall.
3.6.2 - Impact of government intervention
How does government intervention change the efficiency focus of firms
Public sector firms are geared toward allocative efficiency—producing at the level where average revenue equals marginal cost—while private firms aim for profit maximization. Intervention can shift goals toward social efficiency, though market competition also drives productive and allocative efficiency in the private sector
3.6.2 - Impact of government intervention
How is the quality of goods and services affected by government intervention
Regulations ensure firms meet minimum quality standards (for instance, keeping vulnerable populations warm during cold weather). While profit-focused firms might sometimes cut corners, their expertise can also lead to higher quality if not overly restricted.
3.6.2 - Impact of government intervention
What effect does government intervention have on consumer choice?
By regulating monopolies and supporting the growth of SMEs, intervention can widen consumer choice through increased competition. However, overly strict price ceilings might force suppliers out of the market, thereby reducing the variety and quantity of goods available.
3.6.2 - Impact of government intervention
What is regulatory capture and why is it a problem
Regulatory capture occurs when regulators, influenced by detailed company information, start acting in the companies’ interests rather than protecting consumers. This bias undermines the effectiveness of government intervention.
3.6.2 - Impact of government intervention
How does asymmetric information challenge effective policy intervention?
Companies often hold more detailed information than regulators, making it difficult to set the right level for interventions like price caps. This imbalance can lead to poor policy decisions and misallocation of scarce resources.
3.6.2 - Impact of government intervention
What are the key trade-offs involved in government intervention?
ntervention can enhance social welfare by lowering prices, ensuring quality, and broadening consumer choice, yet it may also limit profits, reduce investment incentives, and suffer from issues like regulatory capture and information gaps.
3.6.2 - Impact of government intervention
What is a energy price cap
Legal limit on bills that energy suppliers can charge
What are some stats on the Uk energy market
- Gas and electricity currently provide around 80-85% of UK fuel consumption. Coal is now less than 1%
- The gas and electricity industry are an oligopoly. There are 70 active suppliers. The Big Six energy companies have more than 80% of the market
- Households spend in total over £30 billion a year on energy
- In 2024, 3.1 million people lived in households defined as in fuel poverty, where more than 10% of annual income is needed to maintain a reasonable household temperature
- Big Six: Control 81% of gas supply and 80% of electricity
1. Centrica
1. EDF
1. E.ON
1. N-Power
1. SSE
1. Scottish Power
3.6.2 - Impact of government intervention
What are some arguments for an energy price cap
- Cap protects consumers from over-charging due to the power of dominant suppliers who make high profits
- High fuel bills hurt lower-income families who are at greater risk of fuel poverty – relatively poorer families spend a higher percentage of their disposable income on energy bills.
- Price cap will encourage energy suppliers to increase productive efficiency (lower LRAC) to improve profits
- The cap can be temporary & lifted if competition improves
3.6.2 - Impact of government intervention
What are some Arguments against imposing an energy price cap
- Price cap might hurt competition by reducing profits and therefore lowering the incentive for new challenger firms to enter industry
- Prices tend to gravitate towards the cap so average prices for customers might increase rather than fall
- Fall in profit will mean less investment in renewables – operating profit of energy suppliers is only 5%
- Better long-run strategy is to focus on nationwide housing insulation programme to improve energy efficiency
How can the effectivenss of industry regulation be judged
- Real Prices for Consumers: Prices are falling in real terms (after inflation) so that consumers find a product more affordable
- Size of post industry profits: monopoly profits are made and how much of these are reinvested into renewable energy research
- Jobs: to what extent is regulatory intervention leading to gains in employment
- Performance targets – such as the success/failure in meeting targets for service reliability in the rail industry, speed and efficiency when replying to customer complaints
- Research spending – to what extent is the regulatory environment helping to sustain a high level of research and development spending to speed up the rate of product and process innovation
- Productivity improvements – is extra competition driving higher the level of output per worker?
- Environmental indicators – is regulation effective in improving aspects such as clean beach standards and safety of supply in the water and sewerage industry
- Investment in new capacity to meet future demand – is the regulatory environment providing sufficiently strong incentives for the investment needed to cope with growing populations and rising real incomes? Telecoms, transport, and power are three industries with notably high levels of required investment.
